FINANCIAL LIBERALIZATION AND ADJUSTMENT - THE CASES OF CHILE AND NEW-ZEALAND

This paper analyzes macrodynamic adjustments during financial liberali zation in Chile and New Zealand. During the adjustment to more open ca pital accounts in the late 1970s or mid-1980s, both countries experien ced a real exchange rate appreciation and a collapse of net exports, w hile domestic interest rates slowly converged to international levels. This paper develops and estimates a two-sector dynamic model with cur rent and time-varying parameter techniques. The domestic interest rate is relatively more responsive to shocks under imperfect capital mobil ity, while the real exchange rate becomes more responsive under perfec t mobility. Therefore, capital account liberalization does not elimina te, but rather shifts, volatility from the domestic interest rate to t he real exchange rate.